The Problem with Wild PIIGS

For years, we at THOR have talked about the potential problems with the European Union (“EU”). As long as there are no stresses on the system, the system works relatively well. However, our real concern with the EU was if and when one of the weaker countries ran afoul of the rules and put a strain on the entire system. Would the stronger countries like Germany and France come to the rescue? Anyone with a sense of economic history knows that the weaker countries (the PIIGS – Portugal, Italy, Ireland, Greece and Spain) have a long history of overspending and devaluing their currencies to spark economic growth when they fell into a recession. Today’s problems in Greece should not come as a surprise to the strong countries in the EU. The PIIGS have lived off the trough of lower interest rates as a result of the credibility EU entry brought them, which compounded their spendthrift ways with easy money. Those days are now over as interest rates have risen in the PIIGS.

The question is what should Greece do now? It must stop spending and change people’s reliance on the government. If the government unions and general population fail to change their ways, then Greece should be kicked out of the EU. Otherwise, any other rescue plan will only “kick the can” further down the road and cause the entire EU system to fail, with a much higher cost. This also would be a powerful statement to the other PIIGS and hopefully force them to discontinue their profligate ways. If Greece is kicked out, it represents a mere 2.6% of Europe’s total economy. Such action would likely strengthen the remaining countries in the EU. Greece would be the country to suffer (as it should) while the other countries in the EU that have abided by the rules would be saved.

How does this issue affect your portfolio? Our model continues to have us underweighted in international securities. In addition, most of our international funds are currently overweighted in the Pacific Basin (especially Japan). If the Euro continues to falter, we will look for an opportunity to increase our international exposure, especially our European exposure. This could be a similar situation to 1998 when Asian currencies collapsed and we were able to buy international companies at a fraction of their value compared to their US counterparts. Whichever way the Greece story plays out, we will be looking for an opportunity to benefit from it.

Sincerely,

Your THOR Team